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Budget: High earners see pension tax relief fall to 20% but income tax rise to 50%

23 April 2009 / by Rachael Stiles

One of the groups to be negatively impacted by Alistair Darling's Budget yesterday will be high earning pensioners, who will see the amount of tax relief they get fall from 40 to 20 per cent.

From next April, those earning more than £150,000 will simultaneously be hit by the Chancellor's decision to increase income tax to 50 per cent for those who earn at least £150,000, dealing them a double blow when they retire.

Anyone who earns less than £150,000 a year will not be affected and it was feared that Mr Darling would abolish higher tax rate relief entirely, so the picture for pensioners could have been bleaker.

The Chancellor said that the measures in his second Budget would help to rebuild trust in the financial system, and secure Britain's economic future. "Those who have gained the most should contribute more," he said yesterday when he announced his Budget.

Those earning more than £150,000 will see their tax relief tapered from 40 per cent, down to the same 20 per cent rate as basic rate tax payers, so those on higher incomes will have to make higher contributions to their pension pots in order to receive the same level of retirement income as they would before the change.

Whereas before high earners would have been reimbursed for the 40 per cent income tax they had paid, they will now be losing out, paying 50 per cent tax on their income over £150,000 but only being reimbursed for 20 per cent, the same as low tax rate payers.

Pension providers have criticised the Chancellor's decision to penalise high earning pensioners, saying that it is a disincentive to save for retirement, especially at a time when the value of pensions has fallen and interest rates are hitting incomes from savings; but analysts also think this is a good time for people to consider non-pension investment opportunities in their retirement planning.

Tom McPhail, head of pensions research at Hargreaves Lansdown, said that "By breaking the link between income tax and pension tax relief, the government is setting a dangerous precedent for the future."

"The government seems to assume that anyone who earns over £150,000 can be lumped into the same boat as Sir Fred Goodwin," he added, "but that doesn’t make it alright to deliberately undermine their pension provision."

Mr McPhail also doubts the effectiveness of the measure, noting that the move is only predicted to raise an additional £200million in revenue in the 2011/2012 tax year.

"Overwhelmingly the impact of this measure, taken in conjunction with the increase in ISAallowances, is to promote short term financial planning to the detriment of retirement provision," he said.

The over 50s will soon be able to shield more of their savings from tax when their ISA allowance increases to £10,200 from October this year.

But for lower income pensioners, there was some good news in the Budget yesterday. Pensioners learned that the basic state pension will be increased by at least 2.5 per cent next year, which will help to counteract the above-average inflation rates which they face, despite RPI going negative this week.

Retirees on low incomes also saw the Government boost their eligibility to Pension Credit. Those with savings of up to £10,000 are now eligible, whereas before the savings threshold was £6,000, which the Chancellor expects to give 500,000 pensioners an additional £4 a week.

Grandparents of working age who care for their grandchildren will receive National Insurance Contribution years, which will increase their state pension, and the winter fuel allowance, which was increased last year, will also be maintained for winter 2009, the Chancellor said, which is worth £250 to those aged 60 plus, or £400 to those aged 80 or over.